The Frugal Republic

“China makes, the world takes.” For decades, that has been the motto of the Chinese economy, which is built on providing an endless supply of goods for the rest of the world to buy. But these days there’s a palpable sense that this needs to change. Barack Obama, on his recent trip to Asia, called for a “rebalancing” of the world economy, meaning that China should save less and spend more, while the Chinese President, Hu Jintao, stressed his country’s “vigorous” efforts to promote consumer spending. Everyone wants Chinese consumers to spend more. So why don’t they?

It isn’t that China doesn’t spend at all: it’s already the world’s biggest car market, and consumer spending grew eight per cent annually in the past decade. But, proportionate to its economy, China spends far too little. Consumption accounts for just thirty-five per cent of G.D.P., significantly lower than for most Asian countries and only half the rate in the United States. Chinese households set aside a quarter of their disposable income, and, collectively, consumers and institutions put away $2.5 trillion every year. And in the past ten years consumption has actually fallen as a share of G.D.P. This makes the economy more dependent than ever on exports and investment, creating an imbalance in the global economy. It also means that Chinese consumers aren’t really reaping the full fruits of their labor. If Americans are addicted to living beyond their means, the Chinese are too adept at living beneath theirs.

One common explanation for this thrift is that it’s the product of “Confucian values.” Yet China has not always been so thrifty—in the eighties, consumption was more than fifty per cent of G.D.P.—and today other “Confucian” countries consume far more than China does. The real source of China’s underconsumption is the way it manages its economy. Credit isn’t always that easy to come by. China’s policy of holding down the value of its currency means that consumer prices are higher than they would otherwise be, which obviously discourages spending. And, as a recent McKinsey Global Institute study points out, once you move beyond China’s biggest cities, there’s often a dearth of retail outlets and products for sale. Potential spenders are also held back by systemic issues. Paradoxically, in this still putatively Communist society, families for the most part have to fend for themselves. Health insurance is limited in what it covers and far from universal, so getting sick can be a costly proposition. Only a fraction of the workforce receives unemployment benefits, while pensions are underfunded and haphazardly administered. A scarcity of student loans and subsidies for higher education, meanwhile, means that paying for college requires hefty savings. The inadequacy of the social safety net forces the Chinese to engage in “precautionary savings,” buffering themselves against disaster. A recent Brookings Institution study attributes much of the increase in household savings to the rising cost of health care, together with that of housing and education.

The Chinese government has taken steps to deal with these problems. Ninety per cent of the population, for instance, will supposedly have access to health insurance by 2011. Even so, there’s another obstacle to Chinese consumers becoming engines of economic growth: many workers just don’t make enough money. While the country’s boom has been extraordinary, ordinary workers have not reaped the gains one might expect. In the past decade, in fact, the share of G.D.P. that goes to wages has actually fallen, while the share that goes to profits has risen. Although the prevailing image of China is one of labor-intensive factories, with lots of workers toiling away on antiquated machinery, much investment has gone instead into factories and projects that are capital-intensive, which create fewer jobs. So while the pie has been growing rapidly, the share that goes to individual households has shrunk.

Ultimately, all China’s barriers to higher consumption are a product of the fact that for the past three decades its entire economy has been focussed on one thing: making stuff. The Chinese and American economies are mirror images of each other. The American economy revolves around the consumer. Low prices trump all, and enhancing consumer welfare is the ultimate goal. In China, by contrast, the producer is sovereign: investment trumps all, and building is what matters most. Just consider the stimulus plans the two countries enacted earlier this year: In the U.S., most of the stimulus took the form of giving money to individuals via tax cuts and repairing the social safety net by sending aid to the states. China poured almost all its stimulus into infrastructure and construction.

This doesn’t mean that China should start emulating the American model. There’s no denying that its economic strategy has yielded remarkable results. But there is a point at which you can oversave, and overinvest, and that’s where China seems to be. Its current approach depends on the willingness of countries like the U.S. to buy everything China makes while producing very little themselves, which is both risky and arguably unsustainable. More important, it’s not necessary: while some assume that striking a better balance between investment and consumption will hurt China’s economic growth and cost jobs, the opposite is true. A better safety net, higher wage growth, more options for consumers—these things will create more jobs, not fewer. For China, saving less and spending more will improve the lives of ordinary people in the present and make the economy stronger in the future. That’s the rarest of all things in economics: a free lunch. China should go ahead and eat it. ♦

James Surowiecki is the author of “The Wisdom of Crowds” and writes about economics, business, and finance for the magazine.